$4 Trillion Retirement Savings Gap

May 8, 2018

Share This Story

Saving for retirement is
hard enough, but another difficult challenge is making sure the money lasts.
Invest your nest egg conservatively, and you might not be able to stretch the
money out, especially if you live longer than you expect. Putting more in the
stock market could keep the pile growing—but once you stop adding money, a
streak of bad returns could decimate your stake and leave you little chance to
recover.

For years many retirement
experts have pointed to a potential solution: annuities. In its simplest form,
buying an annuity involves taking part of your savings and handing it over to
an insurance company. The insurer then pays out a guaranteed income for the
rest of your life. In theory, putting at least part of retirement savings into
an annuity can make sure you always have some income no matter what the markets
do.

Even so, annuities gained a
bad reputation in some circles. Many annuities are really investment products
combined with insurance, with the option of creating a stream of annuity income
as just one of their features. The commission-based sales model common in the
insurance industry often meant that agents and financial advisers had
incentives to push higher-cost annuities. Those products sometimes locked up
the money for more than a decade before an investor could withdraw funds
without paying a hefty penalty. And complex rules governing how that money was
invested—explained in filings running 100 pages or more—left many scratching
their heads in confusion.

The insurance industry says
it’s gotten the message. It was prodded in part by Obama-era rules from the
U.S. Department of Labor that took aim at conflicts of interest in
investment advice. In 2016 and 2017, sales of annuities dropped as advisers
faced uncertainty about the impact of the new regulations. Insurers rushed to
create a flood of products redesigned to win back financial advisers and a
skeptical public. Distributors began culling the number of annuities they
offered, and insurers promoted products that paid advisers through fees rather
than commissions, sidestepping some conflict of interest worries.

Pathway
Financial Advisors, a fee-based firm with offices in Vermont and Georgia,
steered clear of annuities for years. “Historically, insurance products have
been sold and not bought,” says founder Scott Beaudin. Last year he added
an annuity to a client’s portfolio for the first time, largely because the
products have become “simpler.”

But the Labor Department’s
conflict of interest rules are in trouble. In March a U.S. appeals court struck
them down, saying they were outside the department’s authority and
“unreasonable”; the Trump administration hasn’t appealed. And some think the
improvements aren’t enough to make annuities more appealing. “From my perspective,
there haven’t been any real dramatic changes in product design,” says Ken Nuss,
chief executive officer of AnnuityAdvantage, an online marketplace. Andrew
Komarow, co-founder of Talcott Financial Group in Farmington, Conn., isn’t
convinced either. He says the main difference between the latest products and
those insurers sold before is that the new ones are being aggressively marketed
to fee-based advisers.

The issue of retirement
savings has become more pressing as a swell of baby boomers ages out of
the workforce. According to a report from
the World Economic Forum, total individual retirement savings in the U.S. are
more than $4 trillion short of what’s needed. Boomers are living longer than
previous generations, and many worry they’ll run out of money, according to Ted
Goldman, senior pension fellow at the American
Academy of Actuaries. “They start hoarding, and they’re afraid to spend
anything,” he says.

“Annuities and protection
products actually have an opportunity to solve that,” says Jamie Price, CEO of
the Advisor
Group, a network of independent advisers. “The problem is some of them have
high costs, and I think that they need to rethink how they build their products
and services.”

Investors eventually may be
able to buy annuities without going through advisers or agents. Employer-based
401(k) retirement plans could become the gateway to insurance against outliving
one’s savings. Under the Obama administration, regulators made it easier for
plans to make simple annuities an option. They also changed some regulations to
encourage what are known as longevity annuities, which don’t start payments
until you’re about 80 years old. The idea is to provide protection when you’re
most vulnerable, while letting your own savings handle the early years of
retirement. Because the coverage starts later, longevity annuities can offer
more generous payments for a smaller amount of money. Some research has found
that putting as little as 10 percent of a 401(k) balance at retirement into a
longevity annuity could significantly supplement Social Security and support an
elderly person’s income.

But there’s still an
obstacle to annuities in 401(k)s. Many employers worry they’ll get sued if the
insurer they chose to offer an annuity gets in trouble 30 years down the line.
A bipartisan bill winding its way through Congress seeks to give employers some
legal protection. Whatever the outcome of the regulatory battles around
annuities, Price has one piece of advice for the industry. “Stop building the
next whiz-bang product,” he says. Insurers should aim to “think about finding
better outcomes for clients.”